The US Government's Horribly Misplaced China Trade Priorities

It's no secret that the US Congress and many in the Obama administration have been somewhat obsessed with US-China trade over the last few years, and considering that China is a rising economic power and one of the United States' largest trading partners, a certain amount of US government attention is arguably warranted. However, two recent columns from the Wall Street Journal shine a really bright and depressing light on just how misplaced Congress' (and the US government's more generally) priorities have been, and continue to be, with respect to US-China trade policy.

First, the WSJ's Peter Stein explains how the recent good news that two big US investment banks have gained new access to the Chinese market is not nearly as good as it could have, or should have, been:
On Friday, Chinese regulators confirmed that J.P. Morgan Chase & Co. and Morgan Stanley have both been given the green light to set up shop in China's domestic securities market.

Like other investment banks looking to enter the China market, neither can look forward to an awful lot for now. They're both restricted to 33% ownership of a joint venture with a local partner. They can underwrite stocks and bonds, but they won't have the licenses to trade those securities in the secondary market. Even UBS AG, whose UBS Securities is the most active foreign underwriter in China, made a net profit in 2009 of only around 109.2 million yuan ($16.5 million), according to publicly available data.

Foreign banks in general have struggled to build meaningful businesses in China. But the rules that hold back investment banks from doing more China business are unusually strict. Commercial lenders, by contrast, can set up banks in China that they own entirely, avoiding the perennial risk that their relationship with a joint-venture partner sours. In the asset-management industry, foreign investors can own 49% of a joint venture, giving them a bigger slice of the profits. The Street may have only itself to blame.

Foreign investment banks just weren't that into China, or at least its domestic stock market, back when China was negotiating admission to the World Trade Organization in the years before a deal was reached in 2001, says Zili Shao, chairman and chief executive of China for J.P. Morgan. As a lawyer, Mr. Shao worked on setting up China ventures for Goldman Sachs Group Inc., UBS and CLSA Asia-Pacific Markets, a unit of the French bank Crédit Agricole SA.

At the time, China's financial sector was a mess, and its stock market was a far cry from the major force that it is today. With plenty of market opportunities elsewhere, the need to press for access to China might not have ranked as a top priority at the banks. "That was a major underestimation," says Mr. Shao.

David Strongin, managing director of the Securities Industry and Financial Markets Association, says, "We vigorously and aggressively pursued opening China's market." But rules on foreign participation in China's securities industry were among the last unresolved issues blocking China's entry into the WTO, he adds, "so all leverage to negotiate was gone." He describes the current restrictions as "a huge impediment to competing in China."...

Today, says Mr. Shao, there's no discussion taking place about changing the status quo. In Washington, he says, the goal of boosting U.S. access to China's markets has taken a back seat to political pressure for China to revalue its currency. "There is a lot of debate about the currency," he says, "but no one is arguing for greater market access."Speaking of currency, it's one of the topics in a great new WSJ editorial which explains just how little all that American political effort on China's currency - and the US-China trade balance - could end up getting us. In the process, the piece hits on a lot of the issues that I've been discussing over the last year or so like China currency, global supply chains, import benefits, trade diversion, the trade deficit, and, of course, really stupid congressional rhetoric:
No sooner has a new Congress arrived in Washington than the anti-China-trade rhetoric has started anew. Senator Charles Schumer, whose Democrats still control his chamber, has said he plans to re-introduce legislation to punish China for its "currency manipulation." Tim Murphy, a Pennsylvania Republican, may push similar legislation he co-sponsored in the past, Reuters reports....

Leaders face many decisions on how best to put the American economy back on a growth track. To the extent that Congressional protectionists will present Chinese exporters as a threat to American prosperity despite all the other more pressing problems America faces, the argument over China's exchange-rate policy is a distraction the economy can't afford.

How much of a distraction is suggested by a paper out last month from the Asian Development Bank Institute. Economists Yuqing Xing and Neal Detert examined the supply chain of the iPhone to reach a surprising conclusion: Technically, the iPhone contributes to America's trade deficit with China.

The basic explanation is that data on bilateral trade are calculated assuming that the entire value of a traded good is created in the exporting country. If that ever made sense, it certainly doesn't in a global economy marked by increasingly complex supply chains.

In the case of the iPhone, Messrs. Xing and Detert note that the device was invented in America by an American company, Apple. The components are manufactured, either inside or out of China, by companies based in several other countries. The only part of the entire process that is unambiguously "Chinese" is the final assembly—a process that, in the estimation of Messrs. Xing and Detert, adds only $6.50 to the $178.96 wholesale value of an iPhone.

Yet that entire $178.96 value ends up attributed to China in the calculation of trade statistics. As a consequence, the iPhone contributed nearly $1 billion to China's bilateral trade surplus with America in 2008, and nearly $2 billion in 2009, the authors of this study conclude. If the trade data had been based solely on the $6.50 cost of assembling each unit, the iPhone would have added only $34 million and $73 million in those years, respectively, to China's surplus.

The ADBI study ought to be required reading on Capitol Hill. Most importantly, it raises the question of how much anyone really knows about what America's trade with China is. Critics of trade data, including us, have long asserted that bilateral statistics are misleading at best. As the bilateral trade deficit with China grew, deficits with South Korea, Taiwan and Singapore declined, confirming that China's comparative advantage lies in the assembly into finished products of components manufactured around the region, due to its low-wage, low-skilled labor....

Crucially, the trade data also miss the broader economic impact of "imports" like the iPhone. The benefits are clear and large, though hard to quantify precisely. First there are the gains to Apple itself. The ADBI study examines only the composition of the $178.96 manufacturing cost of the iPhone. The handsets typically retail for as much as 50% to 100% more than that. The difference consists of the value of Apple's intellectual property in having invented the iPhone, and also the value of marketing in persuading consumers to buy the hot new thing.

The ADBI study doesn't break down that figure, but others have performed similar research in the past. Economists at the Personal Computing Industry Center attempted in 2007 to estimate who profits from the iPod and how. They estimated that for an iPod retailing for $299, retailer and distributor margins account for $75 and Apple's own margin accounted for $80. In other words, more than half the retail price accrued to American companies—and their employees and shareholders—in some form.

None of these studies accounts for another huge way such imports drive growth by spurring innovative new businesses. Telecom companies like AT&T and, now, Verizon have profited by being able to offer data services to iPhone-toting consumers. Countless programmers around the world are now devising applications for the iPhone and iPad, which offer many businesses a convenient new way to reach potential customers.

All of which illustrates the basic truth that trade has always benefited the American economy. Congress can't afford to forget that, no matter how much Members would like to scapegoat Chinese factories for Washington's own policy mistakes.

So rather than launching a trade war with China over $6.50, here's a better agenda for the 112th Congress: Focus on policies that will help Americans and U.S. companies better capitalize on a global economy. That includes better tax policies to reward investment and entrepreneurship; environmental regulation that does not discourage manufacturing in America when it would make business sense; health-care policies that don't deter hiring; and free trade to let Americans import goods like iPhones that will spur new growth.Like I said, great stuff. And when you combine the two WSJ pieces, one very important thing becomes crystal clear: the United States government is totally wasting its time on meaningless issues like the trade balance and China's currency and totally ignoring far more important (and valuable) issues like access to China's market, particularly for globally-dominant American service providers. In short, we're so irrationally focused on a measly $6.50 that we're letting billions of dollars slip out the back door. Ugh.

One point of contention, however: contrary to Stein's assertions' the United States government does have a huge chance to quickly improve its companies' access to China's relatively closed services market, as well as many other developing countries' goods and services markets around the world: the WTO's Doha Round of multilateral trade negotiations. Indeed, several studies (like this one) have shown that an ambitious Doha Round agreement on services could improve global welfare by well over a trillion - with a "T" - dollars, with much of that going to US services companies and their employees. And, as Phil Levy and I recently noted, there is a very real and immediate opportunity to complete the Doha Round in 2011.

Of course, Levy and I also noted that the fate of the Round rests squarely on the shoulders of President Obama and the US Congress - particularly in their ability to craft a bold offer on agricultural subsidies and industrial market access and convince (or push) other WTO Members to do the same. Such a plan, however, requires a ton of effort and even more political will, and although the US government has (perhaps) hinted that it's getting serious about Doha, it's still futzing around with silly distractions like China's currency and the bilateral trade balance. Those in Congress, it seems, are far more worried about $6.50 than they are those untold billions.

Obama, however, need not be so distracted, and next week's meetings with Chinese President Hu Jintao provide the President with the perfect opportunity to prove that he's above the nonsensical nincompoopery of self-interested politicos like Chuck Schumer and is instead ready to lead on trade. At the meeting, Obama can show Hu that the US is deadly serious about the Doha Round, and that China should be too. There's no time to waste, and the stakes are just too high to focus on anything else.

Especially a loud-mouthed Senator from New York and $6.50.This feed originates at the personal blog of Scott Lincicome (http://lincicome.blogspot.com).

Related

From Steve Craven comes more evidence today that the Mainstream Media are finally catching on to the fact that the US government's obsession with China's currency is really misguided. On monday, the WSJ's Peter Stein saw the light, and today the NYT's David Leonhardt does the same:

This
week, Commerce Secretary Gary Locke will convene the 21st annual U.S.-China
Joint Commission on Commerce and Trade (JCCT), which is our most important
bilateral dialogue for resolving trade and investment issues between the two
nations.
To
help set the stage for this meeting, Secretary Locke recently convened a
full-day policy conference at Georgetown
University exploring the
U.S.-China Commercial relationship -- with most discussion panels focusing on finding
ways to resolve the trade disputes that animate so much of the coverage of U.S.-China
commercial interaction.
It
is an important discussion. China is the United States’ second-largest
trading partner, with our bilateral trade in goods alone amounting to $365
billion last year. Moreover, China
and the U.S.
are currently partnering to find solutions to some of the world's most pressing
problems, including climate change and energy security.
For
that reason, Secretary Locke made clear that the U.S.
government welcomed continued strong growth in China
as a way for China
to improve the well-being of its citizens. As more and more Chinese move into
the middle class, they will want world-class, American-made goods and that will
mean more jobs here in the U.S.
as our companies work to meet that demand.

WASHINGTON — The Obama administration is putting a large dent in the U.S. embargo against Cuba as of Friday, significantly loosening restrictions on American trade and investment.
The new rules also open up the communist island to greater American travel and allow U.S. citizens to start bringing home small amounts of Cuban cigars after more than a half-century ban.

LUXEMBOURG — European Union governments agreed on Friday to start talks with China to remove restrictions on foreign investment and set clearer rules on doing business after months of trade disputes over Chinese solar panels and EU wine.
The decision by trade ministers from the EU’s 28 member states means negotiations with China can start at a summit in Beijing on Nov. 21, with the aim of sealing an investment agreement in the following two-and-a-half years.

Commerce, USTR
and USDA welcome concrete results in trade negotiations, reiterate need
to achieve greater market access for U.S. exportersToday
marked the conclusion of the 22nd session of the U.S.-China Joint
Commission on Commerce and Trade (JCCT) in Chengdu, China. U.S. Secretary
of Commerce John Bryson and United States Trade Representative Ron Kirk
co-chaired the JCCT along with Chinese Vice Premier Wang Qishan. U.S. Secretary
of Agriculture Tom Vilsack also participated in the discussions.
Secretary
Bryson, Ambassador Kirk and Secretary Vilsack announced meaningful progress on
key elements of the U.S.-China trade relationship but also underscored that
much more work remains to be done to open China’s market to U.S. exports and
investment. Today’s progress will help boost U.S. exports and jobs through
the removal of important barriers related to electric vehicles, strengthened
measures to eliminate discriminatory indigenous innovation policies, and
stricter enforcement of intellectual property rights in China.
“The
JCCT gives us a mechanism to address the toughest issues in our trade
relationship, and we must judge it by our ability to make concrete progress,”
Ambassador Kirk said. “We have reached agreement on a number of important
outcomes, though we had hoped to accomplish even more. In our discussions
with our Chinese counterparts, we spoke frankly about the need to redouble our
efforts going forward.”
“Both
sides worked hard to produce some meaningful progress that will help provide a
needed boost to U.S. exports and jobs,” Secretary Bryson said. “This is a
step in the right direction. But we must continue to actively engage our
Chinese counterparts to open additional opportunities for U.S. businesses.”
“China
is one of the most important agricultural trade partners for the United States
and the meetings and discussions in recent days have helped to strengthen this
partnership and build greater export opportunities for our farmers, ranchers
and growers,” said Agriculture Secretary Vilsack. “We intend to continue
these discussions in the months ahead on beef and other agricultural products
to break down additional trade barriers so Chinese consumers can benefit from
the high quality products that are produced in America.”

By Simon Johnson
President Obama is embarked on a major charm offensive with regard to the business sector, as seen for example in the appointments of Bill Daley (ex-JP Morgan; now White House chief of staff) and Jeff Immelt (still head of GE, now also the president’s top outside economic adviser). This should not be an uphill struggle – much of the corporate sector, particularly bigger and more global businesses, is doing well in terms of profits and presumably C-suite remuneration.

The US trade deficit unexpectedly shrank in November but the yawning gap with China widened further, official data showed Thursday ahead of Chinese President Hu Jintao's visit to Washington next week.The latest trade numbers come as the United States struggles to repair strained economic relations with the rising Asian power, the world's second-largest economy and the number-two US trading partner.President Barack Obama and his administration are expected to discuss trade issues with Hu on his state visit Wednesday, including a key irritant, China's yuan currency.